AIC Key Legislative Priorities

Carried Interest Capital Gains

What is it?

Carried interest capital gains is important because it serves to align a fund manager’s interests with those of the fund’s limited partners (LPs), like pension funds, university endowments, and charitable foundations. If the fund does well, the general partner shares in the gains; if the fund does poorly, the general partner receives no carried interest.

The key criterion for capital gains treatment is whether the taxpayer has made an entrepreneurial investment – of capital or labor or both. Recipients of carried interest meet this test. Capital gains treatment for carried interest has been enshrined in tax law since the start of the code in 1913 and is based on the uniquely American principle that we reward those who take entrepreneurial risk, whether that risk involves investing money or expertise, effort, and vision into a capital asset.

The 2017 Tax Cuts and Jobs Act increased the length of time it takes for carried interest to become long-term capital gains from after 1 year to after 3 years. While the AIC did not support this change, we believe the new law continues to encourage the kind of long-term investment that makes up most of private equity investments.

The AIC’s Position

The AIC strongly opposes proposals that seek to change the tax treatment of carried interest capital gains to ordinary income. We also oppose efforts in states to enact punitive additional state taxes on carried interest capital gains. Private equity is responsible for pumping hundreds of billions of dollars into the U.S. economy and strengthening thousands of businesses each year in all 50 states. Raising taxes on carried interest capital gains would remove a key incentive for entrepreneurial risk taking that is required to start, save, and grow businesses.

Interest Deductibility

What is it?

Interest deductibility refers to the allowance under the U.S. tax code for a business to deduct interest expense from its taxable income, currently up to 30 percent of the businesses Earnings Before Interest, Taxes, Depreciation and Amortization (EBITDA).

Interest expense, simply put, is the cost of borrowing money. It is an operating expense that is incurred in the ordinary course of a trade or business and is paid by any company that funds a portion of its operations with debt. Virtually every company in America uses debt to finance fundamental business activities, like meeting payroll, buying raw materials or making critical capital investments. Businesses issue debt for important economic reasons. Most companies fund their operations with a mix of debt and equity. Debt is especially important for attracting capital to firms with new technologies or uncertain prospects. Although private equity firms and funds generally use little leverage, some private equity portfolio companies do utilize debt to fund their operations, like most other operational businesses in the economy.

The AIC’s Position

The AIC believes that the new 30 percent of EBITDA limit imposed on interest deductibility is not helpful for long-term investing and should not be made more restrictive in the future. In the short-term, the new interest deductibility limit established by the Tax Cuts and Jobs Act should conform to commercial realities. In the long-term, imposing an even more restrictive 30 percent of Earnings Before Interest and Taxes (EBIT) limit on interest deductibility would put the U.S. economy and U.S. businesses at a competitive disadvantage with the rest of the world.

Full expensing is also not an acceptable substitute for interest deductibility because it is a short-term fix with a limited, one-time benefit to the economy. Interest deductibility is a key component of companies’ decision-making that, in turn, drives long-term growth.

The AIC looks forward to working with policymakers in the years ahead to ensure that the new limit imposed on interest deductibility is improved.

CFIUS Reform

WHAT IS IT?

The Committee on Foreign Investment in the United States (CFIUS) is an interagency committee tasked with reviewing potential foreign investments in the U.S. and determining whether such investments pose a risk to national security. The CFIUS review process has not been modernized in nearly a decade. The Foreign Investment Risk Review Modernization Act (FIRRMA) would update the CFIUS review process to address 21st century national security concerns, like investment-driven technology transfers designed to sidestep the Committee’s limited jurisdiction. Specifically, FIRRMA would:

Expand the CFIUS jurisdiction to include certain joint ventures, minority position investments, and real estate transactions near military bases or other sensitive national security facilities.

Update the Committee’s definition of “critical technologies” to include emerging technologies that could be essential for maintaining the U.S. technological advantage over countries that pose threats, such as China.

Add new national security factors for CFIUS to consider in its analyses.

Authorizes CFIUS to exempt certain otherwise covered transactions if all foreign investors are from a country that meets certain criteria, such as being a U.S. treaty ally and having a mutual investment security arrangement.

THE AIC’s POSITION

The AIC understands the important work CFIUS does to protect U.S. interests. CFIUS reform may help to ensure it meets modern demands, but we urge reform to be focused and well-tailored. It should not interfere with passive foreign investments made by U.S. private equity funds. While the mission of CFIUS is important to safeguarding U.S. interests, any reforms must be focused and tailored appropriately. In particular, CFIUS reforms should avoid needlessly interfering with passive foreign investments in U.S.-managed private funds. Limited Partners (LPs) in private funds are completely passive investors. LPs have no rights to direct the General Partners (GPs) of private funds on where to invest. LPs also do not get access to sensitive technological information from portfolio companies owned by the funds in which they invest. Investments in private funds by passive foreign investors do not compromise any American national security concerns. The AIC is working with policymakers in Congress and the Administration to ensure that updates to CFIUS will not needlessly compromise the ability of passive foreign investors to continue investing in U.S. funds.